India’s New Year resolution: welcoming investments and de-cluttering taxation

March 2016 | EXPERT BRIEFING | FINANCE & INVESTMENT

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While global economic growth remains sluggish, India has been witnessing impressive growth backed by strong domestic demand, ongoing policy reforms and low oil prices. According to the World Bank’s latest India Development Update, India has become the world’s fastest growing large economy. It expects growth to accelerate to 7.5 percent in 2015-16, followed by a further acceleration over the next two years.

Welcoming foreign investments

Over the years, India has become an increasingly attractive investment destination. According to UNCTAD’s World Investment Report 2015, India ranked ninth among the top destinations for foreign direct investment (FDI) inflows compared to 15th in the previous year. From January to September 2015, FDI equity inflows into India increased by 18 percent to US$26.5bn. The Prime Minister, Narendra Modi, recently announced that FDI had increased by 39 percent in the last 18 months, at a time when global FDI has fallen. This impressive growth has been a result of several government initiatives to make India more conducive to foreign investment.

In 2015, the government eased FDI norms in several sectors, including defence, construction development, insurance, railway infrastructure, single-brand retail, business-to-business e-commerce, medical devices, limited liability partnerships (LLPs) and private sector banking. The FDI policy was amended to raise investment limits, decrease government approvals, simplify investment conditions and open up new sectors to FDI.

Another major initiative was the ‘Make in India’ campaign launched in September 2014, which focuses on 25 sectors and is aimed at facilitating investment by building manufacturing infrastructure, reducing corruption and bureaucratic complexities, and transforming India into a global manufacturing hub. This initiative has attracted the attention of businesses across the world, indicated by the increase in the number of wholly owned subsidiaries of foreign companies incorporated in India, which went up by 44 percent to 1056 in 2015.

The government is also focusing on improving the ease of doing business in India. Several cumbersome processes for incorporating a business, getting licences, registrations, clearances and filing returns, have been simplified and are now online, increasing efficiency and transparency.

The latest Foreign Trade Policy 2015-2020 also supports the Make in India and ‘Ease of Doing Business’ initiatives. The policy has introduced various schemes and programmes to boost Indian manufacturing and exports, providing several incentives for exports of merchandise as well as services, while simplifying and digitising procedures. Alongside these policy changes, new trade agreements were also signed during the year.

These steps to liberalise FDI and improve the overall investment climate have led to an increasingly positive sentiment towards investing in India amidst the uncertainty in global markets. However, critical reforms such as the introduction of a Goods and Services Tax (GST) are still pending.

De-cluttering indirect tax with GST

GST is a progressive indirect tax reform that will serve as a stepping stone to enabling faster economic growth. Presently, the indirect tax regime in India is plagued by a multiplicity of indirect taxes, where goods and services are taxed separately by different authorities. With a plethora of indirect taxes including service tax, value-added tax, excise duty, octroi, etc., India has one of the most complex indirect tax regimes in the world.

The current Indian government recognises that in order to attract higher FDI, make exports competitive and, in turn, spur growth, it will have to first de-clutter the indirect tax regime and improve the ease of doing business in India. The introduction of GST is an important step in that direction.

Akin to the VAT/GST regimes in many countries, GST in India is proposed to be a centrally controlled tax on the supply of both goods and services, subsuming a large number of central and state taxes and transforming India into a single, common market. Foreign businesses in India will certainly welcome the new GST regime as it will systematically reduce the rampant bureaucratic hassles and red tape. Secondly, it will also bring the largely unorganised local market within the organised tax net, which will help in making the foreign company’s products more cost competitive compared to their local competition. Moreover, these businesses are likely to see an optimisation of their bottom lines as GST will allow a seamless flow of input tax credit across the country, helping to reduce the cost of several goods and services. Thus, this progressive tax regime will not only streamline the functioning of a business through reduced indirect tax compliances but will also optimise their tax costs by negating any cascading of taxes/double taxation in the business value chain.

For those considering entering India, as GST has already been adopted in about 160 countries, most international investors understand its functioning, which would help them in doing business in India’s proposed regime.

GST will also play a crucial role in supporting India’s vision of becoming a global manufacturing hub. Lawmakers understand that in order to boost the Make in India initiative, the government will first have to ensure that any hindrances such as multiplicity of taxes, compliance hassles and manual bureaucratic procedures are minimised.

As proposed, the new GST regime will open up an array of opportunities for businesses across India, as well as those planning to enter the Indian market. While the benefits of GST are evident, it may also pose some challenges with respect to business planning, budgeting and investment, which must be addressed appropriately by those planning to invest in India through the FDI route.

While the implementation of GST has been delayed, the main question to be addressed is ‘when’ and not ‘whether’ GST will be introduced in India. Given that the implementation period for GST may be limited to just a few months, businesses in India will have to streamline their indirect taxes and capitalise on this massive change. They could either be conservative and simply be GST compliant or be proactive and be GST opportunists – a call that organisations will need to take at the earliest.

Major announcements are awaited as the Union Budget 2016-17 will be presented on 29 February. Overall, strong fundamentals and policy changes will continue to boost FDI and economic growth even though the reform momentum has slowed slightly. As acknowledged globally, investments into India are expected to strengthen as it will be one of the few economies to witness accelerated growth over the next few years.

Manoj Gidwani and Pratik Shah are partners at SKP Business Consulting LLP, a member of Nexia International. Mr Gidwani can be contacted on +91 22 6730 9000 or by email: manoj.gidwani@skpgroup.com. Mr Shah can be contacted on +91 22 6730 9000 or by email: pratik.shah@skpgroup.com.